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What Happens to a Preferred Stock in a Buyout?

Original post by Steve Brachmann of Demand Media

Preferred stock is a special class of security that is often issued by corporations offering company stock for public trade. Like all other types of securities issued by a company, preferred stock is a debt that must be accounted for during a corporate buyout or merger. What a preferred stockholder will receive in return for his investment during a buyout depends largely on other types of securities issued by the company and outstanding corporate debts.

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Preferred Stock

Preferred stock is a type of equity security that is a financial hybrid of both bonds and common stock which can be issued for sale by publicly traded corporations. Like common stock, preferred stock receives dividend shares when a company decides to release dividends to corporate stockholders. Preferred stock can also come with a set of provisions that indicate a stockholder's corporate voting rights or whether the preferred stock may be converted into common stock at the holder's request.

Priority Level

Preferred stock inhabits a separate level of financial priority than common stock does. Whenever a company owes a financial obligation to all stockholders, owners of preferred stock will receive their dividends or other payments before owners of common stock. However, anyone holding a corporate bond receives financial priority over preferred stock owners. If bonds have not been used by a company to fund corporate debt, preferred stock will have the highest financial priority among equity securities issued by the company.

Buyouts and Mergers

When a company is bought or merges with another company, all types of stock, including preferred stock, must be satisfied as a debt during the transaction process. Sometimes, holders of preferred stock from the original company are offered preferred stock of equal value from the new corporation. Other times, preferred stockholders are bought out and paid an amount that generally reflects the fair market value of the stock. Buyouts involving companies that have declared bankruptcy or have advanced debt problems may result in preferred stockholders receiving no money for their investment if nothing is left after lenders and bondholders have been paid.

Considerations

Preferred stock issued to venture capitalists typically has a liquidation preference that allows those investors to recoup money in the case of a buyout instead of equitable stock in the new company. Preferred stock can either be cumulative or non-cumulative concerning dividend payments. If a dividend payment is missed, dividends accrue for cumulative preferred stock and are paid when a company can release those funds; dividend payments missed for non-cumulative preferred stock isn't paid later. Preferred stock can also be issued by a company that is buying out another company as a form of private equity meant to leverage the buyout.

About the Author

Steve Brachmann has been working professionally as a freelance writer since 2007. Hailing from Angola, N.Y., his work has been published in "The Buffalo News," SUNY-Fredonia's "The Leader" and on various websites. He is currently attending the State University of New York-Fredonia to earn a Bachelor of Fine Arts degree in acting with a communication minor.